Predetermined, operational procedures for dealing with banks in distress are conspicuously absent across the world with very few exceptions. Instead governments and regulatory authorities intervene when banks approach failure. Bail-outs of important creditors, sometimes including shareholders, and blanket guarantees for creditors become the norm. We argue that efficient incentives of banks’ creditors, as well as of shareholders and managers, require predetermined rules for dealing with banks in distress, and a group of creditors that are credibly non-insured. Cross-border banking increases the need for pre-determined bank insolvency procedures that could enable banks to expand cross-border in branches. In the empirical part we show that credibility of non-insurance is maximized with a partial deposit insurance scheme, and that the coverage can be decreased if effective rule-based distress resolution procedures are implemented.

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Market discipline in banking requires that explicit and implicit insurance schemes for financial sector firms are limited, and that the lack of insurance of important stakeholders is credible. This credibility cannot be achieved without transparent, predictable procedures for distress resolution for banks, including explicit rules for the liquidation of insolvent banks. We find that very few European countries have explicit procedures for dealing with problem banks. The propositions tested in this paper are that the credibility of non-insurance in European banking depends strongly on (i) the degree of coverage of deposit insurance schemes, and (2) on the existence of enforceable rules that enhance the credibility of non-insurance of groups of stakeholders.in bank. The proxy used for credibility of non-insurance in Europe is the probability of banking crisis. Finding a U-shaped relation between the probabiity of banking crisis and the coverage of explicit deposit insurance we derive the degree of coverage that minimizes the probability of crisis in Western and Eastern Europe.
JEL Classification: G21; G28; F43
Keywords: Deposit Insurance; Banking Crisis; Insolvency Procedures, Market Discipline

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We investigate the effect of changes in capital regulation on the strictness
(leniency) of loan terms using a simple model of bank capital requirements and
asset quality examinations. Banks offer different levels of "leniency" in the sense
of willingness to offer automatic extensions of loans in the presence of temporary
payment difficulties of borrowers. Banks offering lenient (less strict) loan terms
must have higher initial levels of capital and charge higher loan rates. When
capital requirements are increased, both strict and lenient banks hold higher levels
of initial capital and they raise loan rates. As capital requirements increase the
difference between initial capital levels and between interest rates of strict and
lenient banks decrease. Thus, higher capital requirements in recessions tend to
reduce the interest rate premium paid for leniency. If a recession is interpreted as
an increase in the required return, the interest rate premium paid for leniency is
increased in recession at a given level of required capital.

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The ambiguity in existing empirical work with respect to effects of deposit insurance schemes on banks’ risk-taking can be resolved if it is recognized that absence of deposit insurance is rarely credible and that the credibility of non-insurance can be enhanced by explicit deposit insurance schemes. We show that under reasonable conditions for effects on risk-taking of creditor protection in banking, and for effects on credibility of non-insurance of explicit coverage of deposit insurance schemes, there exists a partial level of coverage that maximizes market discipline and minimizes moral hazard incentives for risk-taking in banking. Using both the occurrence of banking crises and non-performing loans in the banking sector as proxies for excessive risk-taking the results strongly support this hypothesis in industrial and emerging market economies. Policy recommendations on the country level require analyses of institutional factors affecting the credibility of non-insurance. In particular, the implementation of effective distress resolution procedures for banks would allow governments to reduce explicit deposit insurance coverage and, thereby, to strengthen market discipline.
JEL Classification: G21; G28; F43
Keywords: Deposit Insurance; Banking Crisis; Insolvency Procedures, Market Discipline

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In 1992 the Cadbury Committee report on the financial aspects of corporate governance was
published. The Committee had been established following the failures of a number of high
profile businesses in the UK which had shaken confidence in the market. Some nine years
later, in 2001, the collapse of Enron sent shockwaves through the US market. As a result of the
Enron collapse and various other high profile scandals in the years since its occurrence, the US
is examining its own corporate governance structures and provisions to determine how these
might be improved and help avoid another Enron. The EU similarly is developing principles
and legislation to improve corporate governance, and scandals such as Royal Ahold and
Parmalat have helped drive further governance reforms.
In this paper we detail the development of corporate governance codes in the UK and the
adaptation of similar codes in the EU. We discuss the role of the financial sector in corporate
governance and how principles for regulation and supervision of the financial sector
complement codes of conduct and legislation in the area of corporate governance.
JEL Classification numbers: G34, G28, G22, G23
Keywords: corporate governance, financial sector; institutional investors.

Nordea is the first major international bank planning to operate important host country activities in branches as the Second European banking directive envisions rather than as subsidiaries. Nordea is the result of mergers of roughly equal-size universal banks in four Nordic countries with the intention to reap economies of scale and scope by providing services in an integrated organization. Nordea has so far operated under a legal structure with subsidiaries in the host countries. When the new branch organization is implemented, EU directives specify that the home country is responsible for supervision, regulation as well as deposit insurance. Supervisors in all involved countries are challenged by this prospect and they are negotiating to obtain an acceptable division of responsibilities. We argue that the Nordea case offers an opportunity to implement the EU's vision and to develop institutional foundations for substantial market discipline in banking. In particular, distress resolution and insolvency procedures for banks must be made rule based and credible for host country authorities to accept home country control.

The New Economy is closely associated with computing & communications technology, notably
the Internet. We discuss property rights to, and trade in, the difficult-to-define intangible assets
increasingly dominating the New Economy, and the possibility of under-investment in these
assets. For a realistic analysis we introduce a Schumpeterian market environment (the
experimentally organized economy). Weak property rights prevail when the rights to access,
use, and trade in intangible assets cannot be fully exercised. The trade-off between the benefits
of open access on the Internet, and the incentive effects of strengthened property rights, depend
both on the particular strategy a firm employs to secure property rights, and the protection
offered by law. Economic property rights can be strengthened if the originator can find
innovative ways to charge for the intangible assets. The extreme complexity of the New
Economy and the large number of possible innovative private contract arrangements make it
more important to facilitate the use and enforcement of private individualized contracts to
protect intellectual property than to rely only on standard mandatory patent and copyright law.
Enabling law is one proposed solution. Current patent legislation in the US has led to costly
litigation processes weakening the position of small firms and individuals in patent disputes.
The property rights of such firms and individuals could be strengthened with insurance or
arbitration procedures.
Key words: Competence bloc theory, Enabling law, Experimentally Organized Economy, New
Economy, Weak property rights, Tradability, Underinvestment.

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The literature on Currency Boards (CB) stops at the water edge in terms of dealing with the totality of the functions of a central bank. Monetary policy, and banking supervision
can be "outsourced" in an open economy with substantial foreign direct investment (FDI)
in the banking sector if political nationalism does not trump economic rationality. An orthodox CB renders the central banking function redundant in terms of interest rate and exchange rate determination. FDI in banking could perform the same role for the supervisory function of central banks. We use the case of Estonia to illustrate the feasibility of, and constraints on, outsourcing of central bank functions. A brief discussion of the Argentinian experience is used for contrast.
Key words: Currency Board, Foreign Banks, Supervision, Regional Integration,outsourcing.

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The democratic deficit in the so-called bargaining democracy provides the
motivation for constitutional efforts to limit the ability of different groups to form
coalitions that are able to grant benefits to themselves through legislation that more
or less directly benefit identifiable groups. A constitutional hierachy of laws that
stand in conflict is proposed. In this hierarchy more "rule-oriented" legislation
dominate less "rule-oriented" legislation. The main purpose of the proposal is to
create a momentum of the political process towards more rule-oriented policy
actions and legislation, and to inspire the policy debate to focus on principles and
rules to an increasing extent. At the same time, the difficulty of defining a rule as
opposed to an outcome-oriented directive is avoided by limiting the task of a
constitutional court to simply rank conflicting policy actions with respect to the
degree actions satisfy criteria for rules.